Commonly, taxpayers forget, ignore, or simply are unaware of interest due on a federal tax liability. This can be a critical error as such interest can be significant in amount, even surpassing the underlying tax liability should the tax be owing for a long period of time. The ability of a taxpayer to avoid the interest due on a federal tax liability is extremely limited given the Supreme Court’s long-standing ruling that interest on a federal tax liability is mandated unless Congress specifically provides otherwise. As such, under the Internal Revenue Code, the payment of interest on a federal tax liability is required unless specific provisions apply that allow the IRS to limit or exclude interest.
The IRS is generally required to pay interest on any tax overpayment, and taxpayers must pay interest on any tax underpayment. Congress however has established different compound interest rates for underpayments and overpayments. As a result of the rate differential caused by the dual interest rates, it is possible that a taxpayer may be charged interest on an underpayment at a higher rate during a period of time in which the taxpayer was entitled to overpayment interest at a lower rate.
The IRS at the suggestion of Congress has implemented comprehensive procedures to eliminate the interest rate differential. When a taxpayer is charged interest on an underpayment during the same period of time interest is allowed on an overpayment, the procedure used by IRS to equalize the interest rate differential is called Interest Netting.
Interest netting means that the interest rates on an overpayment and an underpayment during any overlapping period(s) will be equalized so that the rate differential will “net” to zero. It is the interest rates that are equalized. “Overlapping” interest periods occur when a taxpayer owes interest on an underpayment, while during the same period of time, interest is allowed on an overpayment at a lower rate. To accomplish net rate interest netting, the IRS “equalizes” the interest rates by charging underpayment interest at the lower overpayment interest rate or allows overpayment interest at the higher underpayment rate.
Interest netting applies to interest on all types of tax. Therefore, taxpayers may request net rate interest netting for one type of tax that was charged underpayment interest against an overpayment allowed with interest for a different type of tax. For example, a taxpayer may request that the IRS net an overpayment on a Form 941, Employer’s Quarterly Federal Tax Return, against an underpayment on Form 1120, U.S. Corporation Income Tax Return.
Net rate interest netting can only be applied to overpayments and underpayments for the same taxpayer.
Interest Netting requires complex factual and legal analysis on a number of different issues, which our office can handle on your behalf to ensure you realize this important benefit.